Energy efficiency subsidies, additionality and incentive compatibility under hidden information

This paper examines the ‘additionality’ of energy savings in energy efficiency subsidy programs. ‘Additionality’ refers to the energy savings caused by actions beyond what would have occurred in the absence of the policy program. We characterise energy consumers’ strategic response to the subsidies in a formal adverse selection model and show how the subsidy program may fail to satisfy the additionality criterion. This occurs when energy consumers, who partake in the program, have different preferences for energy efficiency technologies that are unobservable. To resolve this, we propose an incentive compatible solution within the subsidy program that can mitigate the non-additionality problem and improve the effectiveness of the scheme.